Hello, and Welcome to the Preferred Bank Fourth Quarter and Full year 2021 Earnings Conference Call. All participants will be in the listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your touch-tone phone. To withdraw your question, please press star then two. Please note, today's event is being recorded. I would now like to turn the conference over to Jeff Haas of Financial Profiles. Mr. Haas, please go ahead.
Thank you, Keith. Hello, everyone, and thank you for joining us to discuss Preferred Bank's financial results for the fourth quarter ended December 31, 2021. With me today from management are Chairman and CEO, Li Yu, President and Chief Operating Officer, Wellington Chen, Chief Financial Officer, Edward Czajka, Chief Credit Officer, Nick Pi, and Deputy Chief Operating Officer, Johnny Hsu. Management will provide a brief summary of the results, and then we will open up the call to your questions. During the course of this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct.
Forward-looking statements are also subject to known and unknown risks, uncertainties and other factors relating to Preferred Bank's operations and business environment, all of which are difficult to predict and many of which are beyond the control of Preferred Bank. For a detailed description of these risks and uncertainties, please refer to the SEC required documents that the bank files with the Federal Deposit Insurance Corporation or FDIC. If any of these uncertainties materialize or any of these assumptions prove incorrect, Preferred Bank's results could differ materially from its expectations as set forth in these statements. Preferred Bank assumes no obligation to update such forward-looking statements. At this time, I'd like to turn the call over to Mr. Li Yu. Please go ahead.
Thank you very much. Good morning, everyone. I'm very pleased to report Preferred Bank's fourth quarter net income of $26 million or $0.80 a share, and a full year earning of $95 million or $6.41 a share. Okay. The pre-tax, pre-provision revenue, PTPP, together with total assets, together with total loans, total deposits, all these are bank records. In the fourth quarter, loan growth was 2.9% sequentially, and annual loan growth was 10.5%. We had a very, very active fourth quarter. Total loan production, we generated $587 million of total commitment with $456 million outstanding at year-end, which doubles prior quarter's production. But unfortunately, payoff also more than doubled prior quarters at $333 million.
For the full year, we originated $1.7 billion of new commitments with $1.26 billion outstanding at year-end. However, again, payoff is $890 million. Looking ahead, we have a decent pipeline as of now, but the payoffs will remain a wild card. I personally am very comfortable with our staff's ability to originate new loans. You see, Preferred Bank is a custom loan shop. Much of our production depends on our one-on-one contact with the customer face-to-face, but the pandemic has taken much of that away from us. I believe going forward with the economy gradually easing, getting better and pandemic getting easier, that we should be reasonably optimistic about our production level, although it could be bumpy between quarters.
Deposit side. Okay, we have little deposit growth in the fourth quarter, but full year growth is about $17.6 million or nearly $800 million. It is very comforting that most of this growth or 90% of it is on the transactional side of lower cost. Our net interest margin was lower than the previous quarter, but that was mainly because of the changes in asset and liability leverage as our loan yield remained pretty stable between quarters.
Looking ahead, as we have 85% of the loans that are all floating, should work well in a rising rate environment. One good news to us is that in the asset quality side, aside from the $9.2 million resolution and the $23 million payoff that I mentioned in our press release, we're on our way to advance another loan of over $4 million from the NPL level to the OREO level that can be sold shortly after. We're looking to resolve another $4 million of loans, which will be paid in full as we can see right now. By the end of first quarter, I hope our loan quality will be even better than the fourth quarter. For 2022, obviously, we still have challenges in Omicron.
It's hard to predict when the pandemic will be easing up on us. Also, with the challenge of a high inflation economy, which I guess it's taking time to quiet down, okay? We're confident that our country will eventually dealing with these issues effectively. Our job is to get ourselves as well prepared as possible and then be alert every step along the way. Okay. I thank you very much. I'm ready for your questions.
Thank you. At this time, we will begin the question-and-answer session. To ask a question, you may press star then one on your touchtone phone. If you are using a speakerphone, please pick up the handset before pressing the keys. To withdraw the question, please press star then two. At this time, we will pause momentarily to assemble the roster. The first question comes from Matthew Clark with Piper Sandler.
Hey, good morning.
Good morning.
Good morning.
Maybe just starting on expenses, nice decline in comp expense this quarter, but you also had some cautious commentary in the release around inflation, more specifically wage inflation, I would think. What's your thought there on the run rate, Ed, and just overall kind of expense growth for the year?
What? Ed?
Yeah.
You want to answer that?
Yeah. Fourth quarter was good in terms of expense control, Matthew. We would expect going forward, as you know, first quarter is always a little bit of a headwind for us on the non-interest expense side due to the payout of incentive compensation. Comparing linked quarters from Q3 to Q4, incentive compensation expense was lower in Q4, and then the capitalized loan costs were higher in Q4. As you know, that's a credit to salary expense because we credit their capitalized loan costs and amortize them over the life of the loan. In terms of first quarter run rate, my guess, Matthew, would be anywhere between $15.2 million and $15.5 million.
Okay. You think it trails off, like it's done historically through the balance of the year?
That remains to be seen. The big wild card there, Matthew, is you already touched on it, is on the compensation side, specifically for us, recruiting. If we're successful in recruiting the first couple of quarters of the year, you likely will not see that trail off. However, if not, you probably will see it trail off a little bit. Fortunately, we're not terribly subject to inflationary pressures as it relates to non-interest expense, with the exception of salaries and a few other items.
Got it. Okay. Just on the loan pipeline, I think, Mr. Yu, you said it's, quote, decent. When you think about or when you look at the pipeline, you think about the year ahead, is that still enough to get you to high single digits to low double digits, or should we think about something?
I'm gonna take that first, and add on to it. Okay.
Hi, Matt, this is Wellington. I think the pipeline is decent to robust. I believe, especially as we continue to have a strategic target to hire new relationship manager and looking at the pattern from last year of our new region and the new hire that we brought in, I think that that have worked out very well. The big wild card, as Mr. Li Yu mentioned, is the runoff. We just have to run faster than the runoff. That's the wild card. Mr. Li Yu.
Matt, you know, as I said, you know, one thing I'm relying upon is our staff's capability. You know, we did originate $1.7 billion in total new commitment just in 2021. So none of us have a crystal ball saying how much will be in the next. I just feel that the economy is getting better, and hopefully we should be doing better.
Great. Just on the margin outlook, the remix, knowing the loan growth was weighted toward the end of the quarter, would it be fair to assume you see that remix benefiting the margin in the upcoming quarter? Can you give us some more color behind the loan pricing that's held up pretty well here and the source of the commercial real estate growth, the types of properties you guys are being able to finance of late?
I will give you the loan pricing information, and I would let Edward give you the movement of the margin situation. No, actually. Hello. Hello.
We got some background.
Hello.
Go ahead.
The loans for the whole year, the new loan are made at anywhere from 50 basis points to 100 basis points less than the loan that being paid off. It is higher in the beginning of the year and close by to the year, it's narrowed down to about roughly 50 basis points. I have reason to believe the first quarter, if there's a payoff, the differences will be more narrowed further. Okay. This is a national trend. This is a trend interest rate environment. This is a trend of competition, and this is a trend of all banking. If you have a portfolio loan, you do nothing about it, year it'll continuously go down, okay, because payoff is whatever. Okay.
What we try to do is generate enough new loans, okay, to hopefully bring up the total net interest income to the level that is, we feel is reasonable for our shareholders. Ed, you want to add on?
Yeah. In terms of the margin, you know, we ended the year, the last quarter at 3.28%, and as we talked about, a lot of that is due to the deleveraging effect during the quarter with the preponderance of the loan growth occurring in the latter part of the quarter and the deposit growth going on throughout the quarter deleveraged the balance sheet. That led to another decline in the margin. That said, going forward, we would expect with a higher earning asset base, certainly we expect net interest income to grow, and that's what we really focus on. In terms of the margin or mathematical output, I would say it's gonna be probably flat to just slightly expanding a little bit in Q1.
Great. Thank you.
Thank you.
Thank you. The next question comes from Andrew Terrell with Stephens.
Hey, good morning.
Hi.
Good morning, Andrew.
Hey, Ed, I appreciate the guide on expenses. It's really helpful. Maybe just thinking about it kind of more holistically, if expenses normalize just a bit higher to start the year and maybe stay there throughout the year. We also have an improving rate backdrop, and you're clearly very asset sensitive. Just taking kind of those two pieces together, is there any reason, I guess, we shouldn't think that you can manage the efficiency ratio kind of at or below that 30% level, kind of like we saw this quarter?
Well, yeah, 28.8% kind of surpassed our, even our own expectations, Andrew, but I don't see any reason why we can't keep that in the low 30%. That shouldn't be a problem at all.
I just, you know, I mean, I have to add on this, okay? You see, I mean, efficiency ratio is a function of net interest income, okay? When the rates—if it is a rising environment, the net interest income is likely to increase. With expenses less—how should I say—less of a movement than the interest income, likely that we can maintain that efficiency ratio.
Mm-hmm. Okay, thanks. Yeah, clearly impressive at 28.8%. Could you guys maybe provide just an update on how progress is going for the Houston, Texas LPO?
Okay. You want to update Houston?
Houston update. We have in terms of headcounts, right now we have three individuals, and we're looking to hire three more coming on board toward the end of this month. I think with that in mind, we always, again, our mentality is always looking for productive relationship managers, what we consider variable costs that can bring in business. It's going in the right direction, Houston, under the leadership of a veteran. We feel quite optimistic.
Andrew, that I also want to add on a little bit, you know, from a more strategic point of view, okay. From the view of a Board of Directors, Houston is a diversification. It is a very small percentage of a total loan production staff and a small loan portfolio. Also, we have always been careful when you go into a new market, you don't want explosive growth, okay. For whatever, you know, whatever reason it is, one of the reasons from a Chief Credit Officer, you know, that you don't want to have explosive growth in a new market. We will be proactively growing the Houston office because that's a good market. Too bad is that the pandemic changed our capability of visiting the office, support the office. They're still growing. They're still according to our plan, pretty much along with our plan.
Yes.
Andrew, just to add on to that, they finished the year ahead of our expectations, and that's a very inexpensive piece of real estate to operate as well, so we feel good about it.
Mm-hmm. Great. Okay. I appreciate it. That's it for me. Thank you for taking my questions, and congrats on a good quarter.
Thank you.
Thank you. The next question comes from Gary Tenner with D.A. Davidson.
Thanks. Good morning. I had a follow-up on kind of the expense guide, Ed, for the first quarter, $15.2 million and $15.5 million. If we look at it kind of year-over-year, that's in line, if not below, what the first quarter of 2021 looked like. I'm just wondering, as you think about, you know, kind of commentary on wage inflation and everything we're hearing, you know, in the economy in general here, why that would be the case. I'm just wondering, is it related to the capitalized costs of benefit of having increased production potentially this quarter versus where it was first quarter of 2021 or something else?
Yeah. That's part of it, Gary. The other thing we did is we accrued some of the payroll taxes that are gonna be coming due in February when we pay out the annual incentive compensation. Our payroll tax expense does go up. We did accrue some of that in the year 2021, so that's why you won't see that quite as high.
Okay.
In addition to that, FDIC premiums actually come down for the bank as our risk profile has improved relative to non-performing assets.
Also, first quarter only, the bank-wide rate raise is to our staff, beginning on March the first. It's not immediately that's creating a big impact.
Okay. That's helpful. The second question I had, just on the fee side. You know, third quarter, you had a really significantly, you know, stronger quarter on letter of credit fees. I think you talked about fourth quarter being lower, but it was kind of below where it was even the first half of the year. You know, in terms of as we're looking out to 2022, knowing that there's gonna be some volatility probably in that line item, how are you thinking about that line of business today versus maybe how are you thinking about it when we talked in October?
Anybody wants to answer that? Wellington, you wanna answer that?
Yeah. Gary, on the letter of credit fee side, I think we should do similar or probably will be greater than what we did in 2021. In fact, you know, I think we have the officer who already connected with their source. So that's something that we would do. On the other type of service, deposit service, that's something that we believe in our forecast, it'll surpass the 2021.
In addition, Gary. Thanks, Wellington. In addition, service charges on deposits continually increases, and that doesn't get a lot of notice because it's not a big line item. Year-over-year, service charges increased 30%, and that's due to a number of programs that we began internally in order to take advantage of the larger DDA base that we have.
All right. Thank you.
Thank you. The next question comes from Steve Moss with B. Riley Securities.
Good morning.
Good morning.
Good morning.
Maybe just starting with circling back to loan yields here. They were relatively stable quarter-over-quarter. You know, Mr. Li Yu, I heard you talk about pricing coming down. Just kind of curious, were there just any unusual fees or extra fees in loan yield this quarter?
Well.
No. As a matter of fact, I think we actually had a small reversal of interest income of about $60,000 on a couple of loans. There's been nothing unusual in the interest income on loans. As a matter of fact, to take that a step further, Steve, looking at loan yields over the past five quarters, over the past four quarters, our average loan yield is only down 12 basis points against this backdrop.
Okay.
The biggest factor is strong deposit growth. Okay. I mean, it's twice amount of the loan growth and also the pattern of deposit growth and loan growth changes our, I mean, net interest margin, quarter by quarter. But again, that, as I said, that, you know, we spend much more time and effort in net interest income. Okay.
Right. Okay. Maybe just sticking with the inputs to the margin, just kind of curious, you know, we've had a move up in rates here. What is your appetite for, you know, any additional securities purchases, if at all, given you're $1 billion+ in cash?
Let me add that Scott mentioned to me that we should buy a couple more pieces of securities.
I did not.
Well...
You did.
Actually, Gary, we did add, as you can see in Q4, to the bond portfolio about $190 million, and that's Ginnie Mae monthly floater stuff. It's very short in terms of duration. From here on, you know, I was looking at the average balance sheet. Since March, we've added $500 million in cash on the balance sheet just in the last nine months. I think at this point, we'd probably be pretty reluctant to put any decent part of that to work. We really look for the IOER rate to be increased as Fed Funds rates go up, and then that's gonna certainly help.
Right. Maybe just on that.
And we,
Mm-hmm.
Okay, go ahead.
Okay. Maybe just on that point on rates here, you know, I think if I recall correctly, it's 50 basis points. The floors are about 50 basis points in the money. Just kinda curious, remind me just what percentage of loans have in the money floors.
Let me go through this for you, Gary. As of right now, the floating rate represents about 86% of the book. Of the floating rate, about 84% have a floor. When we're looking at the first rate increase, we're looking at about $800 million, a little over $800 million of the loan portfolio moving up in the first rate increase. Then as we go to 50, 75, it gets greater.
Well, loan portfolio is one thing, and I wanna add on, there's $1 billion and $50 million of cash on hand, and that will move about altogether.
Yeah.
As part of the securities, about $250 million is also will move along with the rate changes. I calculated, we have about $2.45 billion in assets together with the first $0.25 Sensitive loans, where $2.45 billion assets would is it would be going up if the rate changes. Also our immediate sensitive liability is $2.06 million of a money market and the interest bearing DDAs. The remaining thing is TCD is $1.9 billion, which will raise 12 one-twelfths every month. Actually, we have an 18 months maturity schedule. You're basically gradually increasing on the whole situation.
I am personally hoping with some luck and some management, actually, when the rates first move, we should be doing a little bit better, along the way with further increases.
Okay.
Does that answer?
And then [in terms],
I'm sorry? Does that answer your question?
Yes. No, that's very helpful. And then maybe just one last question for me, going back to the loan pipeline. Just kinda curious, what is the mix of business you guys are seeing in the pipeline coming up?
Okay. Either one of you want to answer that?
Well, I think the business right now, I would say about 70%-30%. 70% CRE related and 30% on the C&I side. Johnny, anything? That's about right.
Yeah.
After CRE includes mortgage.
Mortgage.
Your mortgage with small percentage increases.
Yes. Yeah.
That has always been along our business line. We always keep somewhere around between 28%-31% in the last few years in C&I loans, you know.
Great. All right. Well, good quarter, and thank you very much.
Thank you.
Thank you. The next question comes from David Feaster with Raymond James.
Hey, this is Eric Spector on behalf of David Feaster. Congrats on a great quarter.
Thank you.
It's really great to see the quality improvement and the further improvement early in 2022. Just curious how you think about reserves and the provision going forward, and what you'd expect it to decrease back to that 1.24 level, which is the post- day- one CECL level. If you could just kinda give a quick update on that'd be great.
First of all, we're gonna give you official answer of the reserve, which is from Nick Pi, that he has to be answering to the CPAs and so on, the reserve level situation, you know.
Sure. David, as Mr. Yu mentioned earlier that our asset quality is heading to really a good positive side, starting out from 2022. By the end of this quarter, I believe both our classified and also special mention loans will be dropped substantially. However, there's still a lot of things that we're watching at this time. Probably, you know, at the most is supply chain disruptions and also high inflation, as Mr. Yu mentioned that Fed will try to increase rate several times this year. Also, probably there's some asset bubble during the past years because of the lower cap rate and everybody chasing the property.
However, you know, even though our key underwriting on those things actually is based on the DCR instead of the value, this asset bubble maybe give a good cushion for our existing loans. For new loans, we are closely watching that too. Apparently, Omicron, pandemic issues, labor shortage, all these kind of things will give some pressure to economic growth. You know, no matter what, our portfolio is getting better and better. I believe, you know, once these issues
Our normal range is around 1.2%± .
Maybe, guys, I guess you're asking me is that right now we're at 1.37%, and CECL is 1.15%, what do we think about the differences? You know, obviously, from an operator's point of view, I hope we can get back to the 1.15% level. Right now, still, there are a whole lot of qualitative factors that we are not releasing. We think the economy is not necessarily out of the woods yet, okay? We will evaluate every quarter along the way. I hope that someday, if we can maintain a very clean credit quality, we might even go below 1.15%, but we just have to go every step of the way. Am I right in saying that?
Yes. Yes, we do.
Will I be getting in trouble with our CPA?
You're good.
All right.
Okay, great. Thank you. Just wanna do a quick follow-up on loan demand across your footprint and where you're seeing opportunities and the potential for de novo expansion opportunity as well, and just kinda hear where you're most interested.
Okay. Either one of you want to discuss the opportunities?
Well, I think the opportunity is, we always go. I mean, in terms of, de novo, we never expand into a territory for the sake of a geographic location. We look at the talents that we have. For example, Houston, we went into that market because we were able to recruit a group of, experienced banker in going to that area. So that's where the opportunity is. Johnny Hsu, feel free to chime in terms of our, recruiting new hire strategy and all that.
Yeah. In terms of your question, Eric, on the demand, I think demand is pretty consistent across all of our geographic footprints with Houston, New York, Northern and Southern California. Like Wellington said, we always look for opportunities for expansion, but we have to find the right team and the right people. That's always been our philosophy.
Great. Thank you. One more, if you don't mind. I'm just curious about your thoughts on capital deployment opportunities. Obviously, organic growth remains paramount, but I'm just curious your appetite for buybacks or dividend growth.
Well, I should talk about buyback, okay? That's why I have to ask all you analysts, okay? We were always told buyback is something rewarding our shareholders. Well, then after we buy it back, our net worth become less. The shareholder, I mean, many of you is adding or valuing our stock based on the book values. In buying back, is that really rewarding our remaining shareholders? I keep on asking the question. We did the buyback, okay? I guess you buy back when, you know, market sentiment fully changed to PE based, okay, the price is PE based, okay? Yes, we will continue to do that once we have excess capital, okay?
When we see the growth is not requiring this capital, we will use it for the shareholder return to shareholder. As you can see, we're increasing our dividends continuously now.
All right, great. Thank you. Congrats again on a great quarter.
Thank you.
Thank you. This concludes the question and answer session. Now I'd like to turn the call to Li Yu, Chairman and CEO, for closing comments.
Well, thank you very much. Consider that we're still in the middle of pandemic, and consider that what the country has gone through all these the last two years, we are fortunate to be able to have the operating results as we have just discussed, okay? Now, if you base on whatever Fed is saying or Mr. Jamie Dimon is saying, that we're in a rate rising environment that, which is more of a beneficial to a rate-sensitive bank like we are, okay? We will be careful every step of the way in the near future, okay. Thank you so much.